Appeals heard on common evidence with the appeals of Earl Lipson (2002-1864(IT)G) on February 22, 2006 at Toronto, Ontario.

Before: The Honourable D.G.H. Bowman, Chief Justice

Appearances:

Counsel for the Appellant:

Peter K. Guselle

Counsel for the Respondent:

Jag Gill, Q.C.

____________________________________________________________________

JUDGMENT

It is ordered that the appeals from reassessments made under the Income Tax Act for the 1994, 1995 and 1996 taxation years be dismissed, with costs.

There should be one set of counsel fee at trial in respect of both Earl Lipson and Jordan B. Lipson.

Signed at Ottawa, Canada, this 19th day of April 2006.

"D.G.H. Bowman"

Bowman, C.J.

Docket: 2002-1864(IT)G

BETWEEN:

EARL LIPSON,

Appellant,

and

HER MAJESTY THE QUEEN,

Respondent.

____________________________________________________________________

Appeals heard on common evidence with the appeals of Jordan B. Lipson

(2002-1862(IT)G) on February 22, 2006 at Toronto, Ontario.

Before: The Honourable D.G.H. Bowman, Chief Justice

Appearances:

Counsel for the Appellant:

Peter K. Guselle

Counsel for the Respondent:

Jag Gill

____________________________________________________________________

JUDGMENT

It is ordered that the appeals from reassessments made under the Income Tax Act for the 1994, 1995 and 1996 taxation years be dismissed, with costs.

There should be one set of counsel fee at trial in respect of both Earl Lipson and Jordan B. Lipson.

Signed at Ottawa, Canada, this 19th day of April 2006.

"D.G.H. Bowman"

Bowman, C.J.

Citation: 2006TCC148

Date: 20060419

Docket: 2002-1862(IT)G

BETWEEN:

JORDAN B. LIPSON,

Appellant,

and

HER MAJESTY THE QUEEN,

Respondent,

- AND -

Docket: 2002-1864(IT)G

BETWEEN:

EARL LIPSON,

Appellant,

and

HER MAJESTY THE QUEEN,

Respondent.

REASONS FOR JUDGMENT

Bowman, C.J.

[1] In these two appeals the issues and essential facts are substantially the same. The appeals are from reassessments for the 1994, 1995 and 1996 taxation years. Separate statements of agreed facts and conclusion ("SAF") were filed for each of Earl Lipson ("Earl") and Jordan B. Lipson ("Jordan").

[2] The argument was based on Earl's SAF, which is reproduced as Schedule A to these reasons. No other evidence was called. It is agreed between counsel that the disposition of Jordan's appeals will abide the result of Earl's appeals.

[3] The sole issue is whether the transactions involved in this case, which are admitted to be avoidance transactions within the meaning of subsection 245(3) of the Income Tax Act ("ITA"), constitute an abuse or misuse as contemplated by section 245, thereby justifying the assessing treatment accorded by the Minister of National Revenue. For the reasons that follow, I am of the opinion that they do.

[4] The facts as set out in the SAF in greater detail can be summarized briefly. Earl and his wife Jordanna ("Jordanna") agreed on April 24, 1994, to purchase a personal residence in Toronto for $750,000. On August 31, 1994, Jordanna borrowed $562,500 from the Bank of Montreal (the "bank") and gave the bank an interest bearing demand promissory note. She bought from Earl 20 and 5/6th shares of a family company, Lipson Family Investments Limited, for $562,500 which was said to be their fair market value ("fmv"). She paid Earl with the money she borrowed from the bank by means of a cheque in that amount.

[5] On September 1, 1994, Earl and Jordanna borrowed $562,500 from the bank secured by a mortgage on the new house. The $562,500 borrowed on the mortgage was used to pay off Jordanna's demand loan from the bank.

[6] Earl did not elect under subsection 73(1) of the ITA not to have that subsection apply to his transfer of shares to Jordanna. The plan contemplated that the result of not electing under subsection 73(1) was, notwithstanding that the property was said to have been sold at fmv, that the sale was deemed to have taken place at Earl's adjusted cost base ("acb") so that he realized no gain or loss on the sale. Moreover, the plan was that any gain or loss and any income or loss on the shares when realized or received by Jordanna would be deemed to be Earl's under subsections 74.1(1) and 74.2(1). It was apparently contemplated that the operation of subsections 74.1(1) and 74.2(1) was not excluded by section 74.5.

[7] The way the plan was supposed to work, therefore, was that the income from dividends on the shares or loss resulting from the payment of interest on the mortgage was to be attributed to Earl, who claimed the interest expense net of the dividends. The interest deduction was justified on the basis of subsection 20(3) (interest on money borrowed to repay money borrowed for the purposes contemplated by paragraph 20(1)(c)).

[8] One aspect of this case that I found somewhat puzzling, and to which I received no satisfactory answer, is this: who paid the interest on the mortgage? The efficacity of the scheme required that Jordanna incur and pay the interest. If Earl paid the interest on his own behalf, it could not be said that Jordanna incurred or paid an interest expense in acquiring Earl's shares. Yet it was never made clear that Jordanna paid the interest giving rise to the loss that was attributed to Earl. Counsel informed me that the money came out of a joint account. I assume that if both spouses were on the covenant their liability for the interest was joint. I need not pursue this question in light of the conclusion that section 245 prohibits this deduction. If I had concluded that the scheme was not abusive within the provisions of section 245, I would then have had to consider what portion, if any, of the interest was paid by Jordanna. The overall purpose of the scheme obviously was to make the interest on the mortgage on the home deductible by Earl. It does strike me as passing strange that Earl should get a deduction for interest on money borrowed ostensibly to enable his wife to buy his shares.

[9] Another question that I think requires an answer, quite independently of section 245, is this. The purpose of the scheme was to create the impression that money was borrowed to repay money used to buy shares when in reality it was borrowed to buy a house and to allow Earl to deduct the interest on borrowed money used to buy the house. If he paid it directly he could not deduct it because he was, after all, not buying the shares. He was selling them. So they had to set things up so Jordanna could be said to have paid the interest on the mortgage, received the dividends and sustained the loss so that it could bounce back to Earl. It had to be Jordanna's obligation to pay interest on money borrowed to earn income from a business or property. Quite apart from the question who paid the interest, one might ask the further question: even assuming that Jordanna paid the interest, since they deliberately arranged that the income was not Jordanna's but Earl's, how can it be said that Jordanna's purpose was to earn income when the purpose was to ensure that the income was deemed to be Earl's for tax purposes? I suppose the argument must be that the income producing use contemplated by paragraph 20(1)(c) includes the income that is attributed back to the husband whose shares the wife just bought. Presumably the dividends paid to Jordanna, which would have been taxed in Earl's hands anyway had there been no sale to Jordanna, were intended to enhance the notion of "loss" when combined with the interest expense. Merely to pay the interest out of the joint account and attribute it to Earl without any offsetting dividend income would have been a little too blatant.

[10] The appellants' claims and the Minister's assessing actions were not put before me with the clarity that I might have expected or wished. Paragraphs 9, 10, 11, 12, 13 and 14 of the notice of appeal are as follows:

9. In his return of income for his 1994 taxation year, the Appellant claimed a loss in respect of the Shares, pursuant to subsection 74.1(1) of the Act, in the amount of $12,948, arising by virtue of interest expense in respect of the Mortgage.

10. In his return of income for his 1995 taxation year, the Appellant reported net income in respect of the Shares, pursuant to subsection 74.1(1) of the Act, consisting of a taxable dividend in the amount of $53,546 paid by the Corporation in respect of the Shares, less interest expense of $47,371 in respect of the Mortgage.

11. In his return of income for his 1996 taxation year, the Appellant claimed a loss in respect of the Shares, pursuant to subsection 74.1(1) of the Act, consisting of a taxable dividend in the amount of $12,895 paid by the Corporation in respect of the Shares, less interest expense of $44,572 in respect of the Mortgage.

12. In a letter from Revenue Canada (as it then was) dated September 15, 1997, to the Appellant's accountant, Revenue Canada advised that interest expense in the amounts described above would be disallowed as deductions to the Appellant on the basis that the "true economic purposes for which the borrowed money was used was to purchase a principal residence for the Taxpayer and his wife. As a consequence the interest expense related to the borrowed money was not made for the purpose of earning income from a business or property and therefore is not allowable as a deduction, for the taxpayer or his wife, under paragraph 20(1)(c) of the Income Tax Act. This position is consistent with many court decisions, including the recent decision Singleton v. The Queen, 96DTC1850."

13. By virtue of the Reassessments, the Minister reassessed the Appellant as follows:

(a) by disallowing the loss in respect of the Shares claimed by the Appellant in his 1996 taxation year by adding back the amount of $44,572 to the Appellant's income;

(b) by increasing the income in respect of the Shares reported by the Appellant in his 1995 taxation year by adding back the amount of $47,371 to the Appellant's income; and

(c) by disallowing the loss in respect of the Shares claimed by the Appellant in his 1994 taxation year by adding back the amount of $12,948 to the Appellant's income.

14. The Notice of Confirmation states that the Reassessments were made on the basis that the transaction between the Appellant and the Appellant's Spouse "was an avoidance transaction under subsection 245(3). The tax consequences have been determined according to subsections 245(2) and 245(5) of the Act. The deductions you claimed, amounting to $12,948 in 1994, $47,371 in 1995 and $44,572 in 1996 have been disallowed according to subsection 245(5)".

[11] Paragraphs 3, 4, 5, 6 and 7 of the reply to the notice of appeal are as follows:

3. With respect to paragraph 9 of the Notice of Appeal, he admits that the Appellant claimed an interest expense deduction of $12,948.19 in computing his income for the 1994 taxation year. He states that the Appellant did not report any taxable dividends from Lipson Family Investments Limited (the "Corporation"). He denies all other facts alleged therein.

4. With respect to paragraph 10 of the Notice of Appeal, he admits that the Appellant claimed an interest expense deduction of $47,370.55 in computing his income for the 1995 taxation year. He states that the Appellant reported taxable dividends of $128,531.25 from the Corporation. He denies all other facts alleged therein.

5. With respect to paragraph 11 of the Notice of Appeal, he admits that the Appellant claimed an interest expense deduction of $44,572.95 in computing his income for the 1996 taxation year. He states that the Appellant reported taxable dividends of $30,948.64 from the Corporation. He denies all other facts alleged therein.

6. With respect to paragraph 13 of the Notice of Appeal, he admits that the Minister of National Revenue (the "Minister") reassessed the Appellant for the 1994, 1995 and 1996 taxation years, concurrent Notices thereof dated January 20, 1998, to disallow the interest expenses claimed of $12,948.19, $47,370.55 and $44,572.95 respectively. He denies all other facts alleged therein.

7. With respect to paragraph 14 of the Notice of Appeal, he admits that the substance of the Notification of Confirmation is as pleaded therein.

[12] What seems to have happened, at least according to the pleadings, is that the appellant claimed the net income or loss that would have been claimed by Jordanna but for the attribution rules. The Minister disallowed the net loss. Whether he could have been less generous and disallowed the interest expense but left the dividend income with the appellant is a point that I need not pursue. What was done was not done pursuant to a determination under section 245. Section 245 came along later after the assessment as a justification for the non-section 245 disallowance.

[13] According to paragraph 12 of the notice of appeal, which is admitted by the respondent, the interest expense was disallowed by the Minister on the basis that the

"...true economic purposes for which the borrowed money was used was to purchase a principal residence for the Taxpayer and his wife. As a consequence the interest expense related to the borrowed money was not made for the purpose of earning income from a business or property and therefore is not allowable as a deduction, for the taxpayer or his wife, under paragraph 20(1)(c) of the Income Tax Act. This position is consistent with many court decisions, including the recent decision Singleton v. The Queen, 96 DTC 1850."

[14] By the time the case got to the objection level or at all events by the time the matter came before this Court, the trial decision in Singleton v. The Queen, 96 DTC 1850, had been overruled by the Federal Court of Appeal and the Supreme Court of Canada. The Minister then more or less moved away from the original basis of assessment and concentrated his principal focus on section 245 of the ITA, the general anti-avoidance rule ("GAAR"). Evidently it is permissible to raise the GAAR at any level in light of the decision of the Federal Court of Appeal in S.T.B. Holdings Ltd. v. R., [2003] 1 C.T.C. 36, on the interpretation of subsection 245(7). Whether the Minister should have stuck to his guns and relied upon the true economic purpose of the borrowing is an interesting question but it has been somewhat submerged in the broader question of the GAAR. The Crown believes it remains relevant under the GAAR. The Minister has put all of his eggs in the GAAR basket in reliance upon S.T.B. Holdings Ltd. No doubt, were it not for that case, the Crown would have had to advance other grounds.

[15] I asked counsel for the respondent, Mr. Gill, if the Crown was abandoning the original basis of assessment, i.e. the principle quoted by the assessor from Singleton. His answer was not quite as clear cut as it might have been, as I believe he was endeavouring to keep the concept of "true economic purpose" alive within the context of the GAAR.

[16] Whether or not it is useful to pursue that line of reasoning, we have here at all events a tax benefit (interest on borrowed money was deducted) and an avoidance transaction. This is admitted and it is obvious. The purpose of the series of transactions was to make the interest deductible that would not be deductible if the money was simply used to buy the house.

[17] In Evans v. The Queen, 2005 DTC 1762, I reviewed at length and endeavoured to apply the principles enunciated by the Supreme Court of Canada in Canada Trustco Mortgage Co. v. Canada, [2005 DTC 5523] and Mathew v. Canada, [2005 DTC 5538], ("Kaulius"). No purpose would be served by repeating what was said there. I concluded that it had not been established that the series of transactions involved there constituted "abusive tax avoidance". There are only two passages which I propose in this case to repeat (considering that lengthy passages from Canada Trustco Mortgage Co. were reproduced in Evans). The first is paragraph 66 of Canada Trustco Mortgage Co.:

66. The approach to s. 245 of the Income Tax Act may be summarized as follows.

1. Three requirements must be established to permit application of the GAAR:

(1) A tax benefit resulting from a transaction or part of a series of transactions (s. 245(1) and (2));

(2) that the transaction is an avoidance transaction in the sense that it cannot be said to have been reasonably undertaken or arranged primarily for a bona fide purpose other than to obtain a tax benefit; and

(3) that there was abusive tax avoidance in the sense that it cannot be reasonably concluded that a tax benefit would be consistent with the object, spirit or purpose of the provisions relied upon by the taxpayer.

2. The burden is on the taxpayer to refute (1) and (2), and on the Minister to establish (3).

3. If the existence of abusive tax avoidance is unclear, the benefit of the doubt goes to the taxpayer.

4. The courts proceed by conducting a unified textual, contextual and purposive analysis of the provisions giving rise to the tax benefit in order to determine why they were put in place and why the benefit was conferred. The goal is to arrive at a purposive interpretation that is harmonious with the provisions of the Act that confer the tax benefit, read in the context of the whole Act.

5. Whether the transactions were motivated by any economic, commercial, family or other non-tax purpose may form part of the factual context that the courts may consider in the analysis of abusive tax avoidance allegations under s. 245(4). However, any finding in this respect would form only one part of the underlying facts of a case, and would be insufficient by itself to establish abusive tax avoidance. The central issue is the proper interpretation of the relevant provisions in light of their context and purpose.

6. Abusive tax avoidance may be found where the relationships and transactions as expressed in the relevant documentation lack a proper basis relative to the object, spirit or purpose of the provisions that are purported to confer the tax benefit, or where they are wholly dissimilar to the relationships or transactions that are contemplated by the provisions.

7. Where the Tax Court judge has proceeded on a proper construction of the provisions of the Income Tax Act and on findings supported by the evidence, appellate tribunals should not interfere, absent a palpable and overriding error.

[18] I think that what the Supreme Court of Canada directs is a unified textual, contextual and purposive analysis not only of the sections giving rise to the tax benefit but of the very section which the Minister says denies the benefit, i.e. section 245. It is a general principle of statutory interpretation of broad application and I can think of no reason for not applying it to section 245 as well as to any other section of the ITA. It would be a mistake to fail to give to section 245 the same type of textual, contextual and purposive interpretation as the Supreme Court of Canada requires be given to all of the other provisions of the ITA.

[19] Generally speaking, interest on borrowed money is deductible when the money is used for a commercial purpose. It is not deductible when the money is used for an ineligible (i.e. non commercial or personal) purpose. A purpose of paragraph 20(1)(c) is to "create an incentive to accumulate capital with the potential to produce income by allowing taxpayers to deduct interest costs associated with its acquisition". (Ludco Enterprises Ltd. v.Canada, [2001] 2 S.C.R. 1082, quoted in Novopharm Limited v. The Queen, 2003 DTC 5195, at 5204-5205; Tennant v. The Queen, 96 DTC 6121 at 6126-6127 (S.C.C)).

[20] Subsection 20(3) allows a deduction for interest on money borrowed to repay money previously borrowed for commercial purposes. Essentially subsection 20(3) serves a practical function in the commercial world of facilitating refinancing. It is not there to assist in acts of fiscal legerdemain whereby a wife's temporary borrowing of funds to pay to her husband for shares whose tax incidents remain with the husband is replaced by a borrowing of funds that end up paying for a new house.

[21] Subsection 73(1) has as its purpose the facilitation of inter-spousal transfers of property without immediate tax consequences. Such transfers, in the case of non-depreciable property, are deemed to take place at the transferor's acb unless the transferor elects to have subsection 73(1) not apply. If the operation of subsection 73(1) is excluded by an election, the transfer is deemed to take place at fmv. In fact, the transfer did take place at fmv but the deemed transfer price was Earl's acb. In other words Jordanna acquired the property for tax purposes at Earl's acb. If the property is sold, the capital gain is attributed back to Earl in any event.

[22] Under subsection 74.1(1) any income or loss is attributable to Earl. The purpose of section 74.1 is to prevent income splitting. Section 74.5 excludes the attribution rules in sections 74.1 and 74.2 where the consideration for the transfer is at least equal to the fmv of the property and the transferor makes the election under subsection 73(1). The failure to elect under subsection 73(1) resulted in the attribution rules applying. Here the attribution rules are being used in essence to allow the attributed dividend income to carry back with it to Earl the interest deduction.

[23] I think that the series of transactions involved here resulted in a misuse of the provisions of the ITA, specifically paragraph 20(1)(c) and subsection 20(3). To the extent that subsection 73(1) and section 74.1 are used to achieve that misuse and to execute the scheme as a whole, they too are being misused. Not one of the purposes of the provisions that I referred to above is being fulfilled by this series of transactions. The overall purpose as well as the use to which each individual provision was put was to make interest on money used to buy a personal residence deductible.

[24] In paragraphs 44 and 45 of Canada Trustco, the Supreme Court of Canada stated:

The heart of the analysis under s. 245(4) lies in a contextual and purposive interpretation of the provisions of the Act that are relied on by the taxpayer, and the application of the properly interpreted provisions to the facts of a given case. The first task is to interpret the provisions giving rise to the tax benefit to determine their object, spirit and purpose. The next task is to determine whether the transaction falls within or frustrates that purpose. The overall inquiry thus involves a mixed question of fact and law. The textual, contextual and purposive interpretation of specific provisions of the Income Tax Act is essentially a question of law but the application of these provisions to the facts of a case is necessarily fact-intensive.

This analysis will lead to a finding of abusive tax avoidance when a taxpayer relies on specific provisions of the Income Tax Act in order to achieve an outcome that those provisions seek to prevent. As well, abusive tax avoidance will occur when a transaction defeats the underlying rationale of the provisions that are relied upon. An abuse may also result from an arrangement that circumvents the application of certain provisions, such as specific anti-avoidance rules, in a manner that frustrates or defeats the object, spirit or purpose of those provisions. By contrast, abuse is not established where it is reasonable to conclude that an avoidance transaction under s. 245(3) was within the object, spirit or purpose of the provisions that confer the tax benefit.

[25] Paragraph 20(1)(c) was intended to permit interest on money borrowed for commercial purposes to be deducted. The corollary is that interest on money borrowed for personal use (such as buying a residence) is not deductible. That purpose is frustrated by this arrangement, which uses paragraph 20(1)(c) and subsection 20(3) in conjunction with the attribution rules in subsection 73(1) and sections 74.1 and 74.2 to achieve a purpose for which they were never intended.

[26] Subsection 20(3) is being abused as follows: the sale of the shares was a mechanism within the family context to fund the purchase of a family home. The proceeds of the first and temporary loan moved from the bank to Jordanna to Earl to the vendor of the home in a pre-arranged sequence. It reached its ultimate destination and purpose in the hands of the vendor one day after the original borrowing that had as its ostensible purpose the purchase of shares. Subsection 20(3) is at the heart of the scheme. Its misuse consists in the purported attachment to the subsequent mortgage loan the tax incidents of Jordanna's original and fleeting use of the proceeds of the first loan.

[27] Superficially, it might be argued that the use made here of subsection 20(3) is exactly what is intended by the legislation, that is to say, imprinting on the refinancing loan the tax incidents arising from the use of the money borrowed by the initial loan. That argument, in my view, would be sophistry. The initial and supposedly commercial use was never intended to continue into the refinancing. That is evidenced by (a) the nullification for tax purposes of the effect of the sale of the shares by Earl to Jordanna coupled with (b) the immediate and inevitable flow of the borrowed money from the bank through the hands of Jordanna and Earl to its ultimate destination in the hands of the vendor of the home. Subsection 20(3) was intended to meet the possible argument that refinancing by itself changes the purpose of an original borrowing. It was not intended to continue in existence, after a refinancing, an original purpose which died before the refinancing. Rather it was intended to facilitate the achievement of the purposes of paragraph 20(1)(c) and not assist in subverting them.

[28] I agree with the observations made by Mr. Gill in paragraphs 32 and 33 of his written argument:

32. The Appellant has used paragraph 20(1)(c) in conjunction with the attribution rules in subsection 73(1) and sections 74.1 and 74.2 to achieve an outcome that "defeats the underlying rationale" of paragraph 20(1)(c) and of the attribution provisions i.e. the transactions result in the avoidance of tax through income splitting in a manner that interest expense has become deductible in the hands of the Appellant's spouse.

33. The arrangement devised by the Appellant "circumvents the application of" paragraph 18(1)(a) and 18(1)(h) which would prohibit the deduction of the mortgage interest on the Appellant's house.

[29] Each case in which the GAAR is applied depends on its own facts and the Supreme Court of Canada has recognized the important factual component that must be considered by the Tax Court of Canada. In both Evans and Overs v. R., 2006 TCC 26, there was, factually, an underpinning of commerciality or estate planning (although I did not find the estate planning in Evans to be a predominant consideration). The same distinction can be found between Canada Trustco and Kaulius. The scheme involved here has no such redeeming features. Drawing the line between abusive and acceptable tax avoidance requires the exercise of judgement. It is not a purely mechanical process, nor is it either a discretionary or a subjective determination. It involves the application of the principles enunciated by the Supreme Court of Canada.

[30] In determining whether a transaction or series of transactions constitutes abusive tax avoidance, a number of factors may have to be considered and assigned their appropriate weight in the circumstances. These include the purpose of the statutory provisions relied on, the overall result that the use of the combination of provisions seeks to achieve and the genuineness or artificiality inherent in the transaction.

[31] This case is, in my view, an obvious example of abusive tax avoidance. Whatever commercial or other non-tax purpose, if any, is served by transferring Earl's shares to Jordanna, it is subservient to the objective of making the interest on the purchase of the house deductible by Earl.

[32] In this case I am not looking to any "overarching policy" that supersedes the specific provisions of the ITA. I am simply looking at the obvious purpose of the various provisions that are relied on and have concluded that those purposes have been subverted and those sections turned on their heads. I mentioned above that section 245 must itself be subjected to a textual, contextual and purposive analysis. If there ever was a case at which section 245 was aimed, it is this one. I am reminded of what Justice Cartwright (as he then was) said in Harris v. M.N.R., 66 DTC 5189:

While, in view of the conclusions at which I have arrived on the points dealt with above, it is not necessary to express an opinion upon the other grounds on which counsel for the respondent opposed the appeal, I propose to state briefly my opinion on the position taken in ground (e) set out above which was fully argued.

Section 137(1) of the Income Tax Act reads as follows:-

137. (1) In computing income for the purposes of this Act, no deduction may be made in respect of a disbursement or expense made or incurred in respect of a transaction or operation that, if allowed, would unduly or artificially reduce the income.

If, contrary to the views I have expressed, we had accepted the appellant's submission that the transaction embodied in the lease was one to which section 18 applied and that on the true construction of the lease and the terms of that section the appellant was prima facie entitled to make the deduction of the capital cost allowance of $30,425.80 claimed by him, I would have had no hesitation in holding that it was a deduction in respect of an expense incurred in respect of a transaction that if allowed would artificially reduce the income of the appellant and that consequently its allowance was forbidden by the terms of section 137(1). The words in the sub-section "a disbursement or expense made or incurred" are, in my opinion, apt to include a claim for depreciation or for capital cost allowance, and if the lease were construed as above suggested the arrangement embodied in it would furnish an example of the very sort of "transaction or operation" at which section 137(1) is aimed.

[Emphasis added]

[33] It is the purposive approach to the predecessor of section 245 enunciated by Cartwright J. which I am respectfully adopting here. The Supreme Court of Canada has given us some fairly clear guidelines on how to apply section 245 and it has also put some stringent restrictions on its application. However, if section 245 is to serve any purpose it must be applied to the very sort of contrived transaction such as this one at which it is obviously aimed.

[34] The appeals are dismissed with costs. There should be one set of counsel fee at trial in respect of both Earl Lipson and Jordan B. Lipson.

Signed at Ottawa, Canada, this 19th day of April 2006.

"D.G.H. Bowman"

Bowman, C.J.

SCHEDULE A

2002-1864(IT)G

TAX COURT OF CANADA

BETWEEN:

EARL LIPSON

Appellant

- and -

HER MAJESTY THE QUEEN

Respondent

STATEMENT OF AGREED FACTS AND CONCLUSION

The Appellant and the Respondent agree to the following facts:

1. The Appellant and Jordanna Lipson were husband and wife.

2. On April 24, 1994, the Appellant and Jordanna Lipson entered into an agreement of purchase and sale to purchase a personal residence in Torontolocated at 34 Hawarden Crescent, Toronto, Ontario (the "Property").

3. The purchase price of the Property was $750,000 with a $50,000 deposit.

4. On August 27, 1994, the Appellant and Jordanna Lipson signed a letter addressed to their solicitor stating that the Bank of Montreal (the "Bank") was lending them $562,500 on September 1, 1994 to place a mortgage on the new Property.

5. The solicitor was to accept the letter as an irrevocable instruction to direct full proceeds of the Bank's mortgage advance back to the Bank to retire in full the Demand Loan dated August 31, 1994 to Jordanna Lipson for a like amount.

6. The direction could only be cancelled with full approval of the Bank in writing.

7. On August 30, 1994, the Appellant and Jordanna Lipson signed a Charge/Mortgage of Land document as joint chargers.

8. On August 31, 1994, the following transactions occurred:

(i) Jordanna Lipson borrowed $562,500 from the Bank and gave the Bank an interest bearing promissory note;

(ii) pursuant to a Memorandum of Agreement, the Appellant transferred 20 and 5/6th shares of Lipson Family Investments Limited (the "Corporation") to Jordanna Lipson for $562,500, which was said to represent the fair market value of the shares;

(iii) Jordanna Lipson gave the Appellant a cheque for $562,500 as payment for the shares;

(iv) the Appellant forwarded the funds to the trust account of the solicitor handling the purchase of the Property;

9. The Bank would not have lent $562,500 to Jordanna Lipson on an unsecured basis, without the Appellant agreeing to have Jordanna Lipson's loan being repaid out of the mortgage loan as described in paragraph 4 above.

10. Jordanna Lipson did not have sufficient income to pay the interest on either the bank loan or the mortgage herself.

11. The number of the Shares transferred by the Appellant to Jordanna Lipson (20 5/6) was chosen on the basis that their fair market value was equal to the amount of bank loan ($562,500) to Jordanna Lipson. If the fair market value of the shares was questioned by the taxing authorities the number of shares in the Memorandum of Agreement was to be changed so that their fair market value equaled $562,500.

12. On September 1, 1994, the following transactions occurred:

(i) the Transfer/Deed of Land, showing the Appellant and Jordanna Lipson as joint tenants, was registered;

(ii) the Charge/Mortgage of Land was registered;

(iii) the Appellant's solicitor used the funds received from the Appellant on August 31, 1994 to pay $562,500 towards the purchase price of the Property;

(iv) the Bank advanced $562,500 to the Appellant's solicitor in trust as proceeds from the mortgage on the Property;

(v) the Appellant's solicitor used the $562,500 proceeds from the mortgage to repay Jordanna Lipson's loan from the Bank;

13. All transactions, mentioned above, were structured according to the advice of the Appellant's accountant.

14. The Appellant did not elect not to have subsection 73(1) of the Income Tax Act, apply to the transfer of the Corporation's shares to Jordanna Lipson, which, but for the application of section 245 of the Act, would have had the following consequences:

(a) the shares would have been deemed to have been sold by the Appellant for proceeds equal to his adjusted cost base ("ACB") of the shares and to have been acquired by Jordanna Lipson at the same ACB so that no taxable gain or loss would arise until the shares were sold by Jordanna Lipson; and

(b) any income or loss from the Shares computed in the hands of Jordanna Lipson, would have been deemed to be that of the Appellant under subsection 74.1(1) of the Act.

15. The loss for 1994, computed in the hands of Jordanna Lipson, was caused by the deduction of the interest on the mortgage, in substitution for the loan to acquire the shares. In 1995, taxable dividends were paid on the transferred shares which exceeded the interest expense. In 1996, taxable dividends were paid on the transferred shares in an amount less than the interest expense. All items of income or loss in respect of the transferred shares for the years in question were duly reported by the Appellant, in compliance with subsection 74.1(1) of the Act. The Appellant and the Respondent agree that the quantum of interest expense reported by the Appellant for the years in question is not in dispute, and further agree that, but for the application of section 245 of the Act, such interest expense was properly deductible by the Appellant under paragraph 20(1)(c) of the Act.

16. The Appellant and the Respondent also agree that the transactions described above were avoidance transactions within the meaning of subsection 245(3) of the Income Tax Act;

17. Neither the Appellant nor the Respondent will call any witness.

DATED at the City of Toronto, Ontario, this 17th day of January, 2005.

____________________________________

Peter K. Guselle

Fogler Rubinoff LLP

Barristers & Solicitors

Suite 1200

95 Wellington Street West

Toronto-Dominion Centre

Toronto, Ontario

M5J 2Z9

Counsel for the Appellant

DATED at the City of Toronto, Ontario, this 17th day of January, 2005.

The taxpayer's wife ("Jordanna") borrowed $562,500 from the Bank of Montreal to fund the purchase of shares of a family company from the taxpayer for $562,500. A day later, the taxpayer and Jordanna borrowed, on a joint and several basis, $562,000 from the Bank secured by a mortgage on a new personal residence that they had just purchased, with the proceeds of that loan being used to pay off the loan the Bank had made to Jordanna. The taxpayer used the share sale proceeds to pay the vendor of the residence. The taxpayer filed his return on the basis that the inter-spousal rollover applied to the share sale and that s. 74.1(1) attributed to him the loss sustained by Jordanna resulting from the deduction of the interest expense on the mortgage loan from the dividend income she received on her purchased shares.

Before going on to find that the GAAR applied to deny the deduction of the interest on the home loan, Bowman C.J. noted that if he had not reached this finding it would not have been necessary, in order to find the interest deductible, that Jordanna had paid the interest notwithstanding that the money to pay the interest came out of a joint account between her and the taxpayer, and also that Jordanna's purpose was to earn income from the shares when at the same time the purpose of the arrangement was that the income on the shares would be deemed to be the taxpayer's for tax purposes.

The taxpayer's wife ("Jordanna") borrowed $562,500 from the Bank of Montreal to fund the purchase of shares of a family company from the taxpayer for $562,500. A day later, the taxpayer and Jordanna borrowed, on a joint and several basis, $562,000 from the Bank secured by a mortgage on a new personal residence that they had just purchased, with the proceeds of that loan being used to pay off the loan the Bank had made to Jordanna. The taxpayer used the share sale proceeds to pay the vendor of the residence. The taxpayer filed his return on the basis that the inter-spousal rollover applied to the share sale and that s. 74.1(1) attributed to him the loss sustained by Jordanna resulting from the deduction of the interest expense on the mortgage loan from the dividend income she received on her purchased shares.

Bowman C.J. indicated (at p. 2692) that "paragraph 20.(1)(c) was intended to permit interest on money borrowed for commercial purposes to be deducted" and "that interest on money borrowed for personal use (such as buying a residence) is not deducible" and (at p. 2691) that "subsection 20(3) allows a deduction for interest on money borrowed to repay money previously borrowed for commercial purposes." Here, subsection 20(3) was being abused through "the purported attachment to the subsequent mortgage loan [of] the tax incidents of Jordanna's original and fleeting use of the proceeds of the first loan" (p. 2692).

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